What principle does diversification rely on in a retirement portfolio?

Diversification is a fundamental strategy in portfolio management, particularly for retirement portfolios. The principle of diversification relies on spreading investments across various asset classes to reduce risk. By not putting all your money into a single type of investment, you can mitigate potential losses. Different asset classes, such as stocks, bonds, and real estate, often react differently to market changes. When one asset class declines in value, another may increase, helping to smooth out the overall performance of the portfolio.

This strategy is grounded in the concept of correlation between assets; by choosing investments that do not move in sync, an investor can reduce volatility and enhance the potential for stable returns. Thus, spreading investments across various asset classes is a key method to improve the risk/return profile of a retirement portfolio, ultimately aiming for more consistent and predictable financial outcomes over the long term.